Clark Manufacturing makes blank CDs; it is a very competitive market and the company follows a target pricing strategy. Currently the market price for a unit of product (one unit equals a package of 100 CDs)is $18.00. Clark's production costs are shown below: Clark uses activity-based costing for its indirect production costs and provides the following information about this particular product:
The company's objective is to earn 5% profit on the sales price of the product. Clark carried out a value engineering study and decided that they could make the processing activity more efficient and save costs. They have determined that if they can reduce the activity rate for the processing activity down low enough, they can hit their profit objective. What activity rate would be needed to achieve the 5% objective they seek? (Please round to nearest cent.)

Question

Clark Manufacturing makes blank CDs; it is a very competitive market and the company follows a target pricing strategy. Currently the market price for a unit of product (one unit equals a package of 100 CDs)is $18.00. Clark's production costs are shown below:  Clark uses activity-based costing for its indirect production costs and provides the following information about this particular product:
 The company's objective is to earn 5% profit on the sales price of the product. Clark carried out a value engineering study and decided that they could make the processing activity more efficient and save costs. They have determined that if they can reduce the activity rate for the processing activity down low enough, they can hit their profit objective. What activity rate would be needed to achieve the 5% objective they seek? (Please round to nearest cent.)

Quizplus · Accepted Answer

First, we need to determine the total production cost per package of 100 CDs:

Direct Materials: $2.00
Direct Labor: $1.00
Indirect Costs:
- Setup: $1.50 x 5 setups = $7.50
- Processing: $0.50 x 16,000 = $8,000
Total Indirect Costs = $7.50 + $8,000 = $8,007.50

Total Production Cost = $2.00 + $1.00 + $8,007.50 = $8,010.50

Now, we need to determine the target cost per package of 100 CDs to achieve a 5% profit on the sales price of $18.00:

Target Cost = $18.00 x (1 - 0.05) = $17.10

To determine the activity rate needed for processing, we can use the following formula:

Activity Rate = Total Cost / Total Activity

We know that Clark can reduce the activity rate for processing and still meet their profit objective, so we need to solve for the activity rate that will result in a total cost of $17.10:

$8,007.50 + Activity Rate x 16,000 = $17.10 x 100

$8,007.50 + Activity Rate x 16,000 = $1,710.00

Activity Rate = ($1,710.00 - $8,007.50) / 16,000

Activity Rate = $-538.50 / 16,000

Activity Rate = $0.03365625

Activity Rate = $0.034 (rounded to nearest cent)

Therefore, the activity rate needed to achieve the 5% profit objective is $0.034 per CD, or $3.40 per package of 100 CDs. However, since Clark will need to round the sales price up to the nearest cent, they will actually need to reduce the activity rate a bit further. The only choice that is lower than $3.40 per package of 100 CDs is A) $3.53, which is the best choice.

Clark Manufacturing Makes Blank CDs; It Is a Very Competitive